PAGE 1
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Keystone High Income Bond Fund (B-4)
Seeks generous income primarily from high yield corporate bonds.
Dear Shareholder:
We are writing to report to you on the performance of Keystone High Income Bond
Fund (B-4) for the twelve-month period which ended July 31, 1996.
Performance
Your Fund produced a total return of 2.19% for the six-month period and 1.38%
for the twelve-month period which both ended July 31, 1996. The Lehman Aggregate
Bond Index--a broad index of U.S. corporate, government and mortgage
securities--returned -1.61% for the six-month period and 5.53% for the
twelve-month period.
We were not satisfied with your Fund's one year performance. However, we
believe we have seen signs of improvement in 1996 as the portfolio has been
restructured. The past year represented a period of transition as Richard Cryan
assumed responsibility as portfolio manager at the beginning of 1996. Our
primary objective has been to restructure and upgrade the Fund's portfolio and
increase diversification and liquidity. We believe this long-term strategy has
laid the foundation for stronger and more consistent performance. Mr. Cryan
discusses this strategy in more detail beginning on page three.
Market environment
Market conditions were favorable for high yield bond investors, especially over
the past six months. Strong economic growth in the first half of 1996 was
positive for many companies that had issued high yield bonds. High yield bonds
also benefitted in the first half of the period from the bond market rally.
Investors were attracted to the high income of high yield bonds in the lower
interest rate environment. In the second half of the period, strong cash flow
and investor demand provided some support to high yield bond prices. This was
during a time when prices in the overall fixed-income markets declined. Though
the prices of high yield bonds declined in 1996, they held their value better
than any other sector of the fixed-income market.
Although your Fund continued to pay a competitive dividend, it was necessary
to reduce the Fund's dividend in October 1995 and June 1996. There were two
reasons for these reductions: declines in market rates in 1995 and early 1996,
and our emphasis on higher quality bonds. Throughout most of 1995 interest rates
declined, lowering yields to nearly every bond investor. In this environment,
many investors attempted to reach for higher yields by investing in lower rated
bonds. In the interest of long-term performance, we chose not to downgrade
quality and continued to upgrade the portfolio. These higher quality bonds tend
to have lower yields, but have historically provided better price stability in a
slower economic environment.
Our outlook
We believe that the stronger economic growth environment of the first half will
moderate for the remainder of the year. Combined with well contained inflation,
long-term bonds should remain in a trading range. This should provide a
satisfactory environment for high yield bonds. We believe your Fund is well
positioned for this environment, with its emphasis on higher quality, high yield
bonds and broad diversification.
We are pleased to inform you that Keystone has agreed to be acquired by First
Union Corporation. The acquisition is subject to a number of conditions,
including approvals of investment advisory agreements with Keystone by fund
shareholders. First Union is a financial services firm based in Charlotte, North
Carolina. It is the nation's
-continued-
<PAGE>
PAGE 2
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Keystone High Income Bond Fund (B-4)
sixth largest bank holding company with assets of approximately $140 billion.
First Union, through its wholly-owned subsidiary Evergreen Asset Management
Corp., manages more than $16 billion in 36 mutual funds. Keystone will remain a
separate entity after its acquisition and will continue to provide investment
advisory and management services to the Fund. We believe First Union's
acquisition of Keystone should strengthen the investment management services we
provide to you.
Thank you for your continued support of Keystone High Income Bond Fund (B-4). We
encourage you to write to us with questions or comments about your investment.
Sincerely,
/s/ Albert H. Elfner, III
Albert H. Elfner, III
Chairman and President
Keystone Investments, Inc.
/s/ George S. Bissell
George S. Bissell
Chairman of the Board
Keystone Funds
September 1996
[PHOTO: Albert H. Elfner, III]
[PHOTO: George S. Bissell]
[DALBAR HONORS COMMITMENT TO LOGO]
Dalbar Key Honors
Honoring Commitment to Excellence
Keystone was recently recognized by Dalbar, an independent mutual fund rating
organization, for demonstrating a commitment to serving the needs of customers.
The award is intended to distinguish companies who are committed to investors
and have a proven ability to provide good service.
Keystone Introduces Investment Insight Line for Shareholders
Now you can keep up-to-date on your fund's current strategy and outlook by
calling Keystone Investment Insight Line. You can hear Keystone portfolio
managers discuss their latest strategies, or listen to Keystone's overall market
outlook from James McCall, chief investment officer. Of course, your financial
adviser can provide you with more complete information on Keystone Funds. This
service is available 24 hours a day, seven days a week and updated at least
monthly.
Keystone Investment Insight Line 1-800-346-3858, Press 2 after the greeting
<PAGE>
PAGE 3
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A Discussion With
Your Fund's Manager
[PHOTO OF RICHARD CRYAN]
Richard Cryan is portfolio manager of the Fund and heads Keystone's high yield
bond team. Mr. Cryan has more than 16 years of investment experience, and served
as president of Wasserstein Perella Asset Management and also as a portfolio
manager at Fidelity Investments. Dick received his BS from the University of
Colorado and his MBA from Columbia University. Mr. Cryan's team researches,
analyzes and evaluates high yield bonds for the Fund.
Q Tell us about the strategy change you implemented in Keystone High Income Bond
Fund (B-4) at the beginning of 1996.
A We attempted to generate more consistent performance and attractive income by
upgrading the portfolio's credit quality and increasing diversification and
liquidity. These were significant changes that were made over the last six
months, taking market conditions and the potential long-term benefits into
consideration.
Q Please describe the changes you made to the portfolio.
A We upgraded quality by raising the percentage of net assets invested in BB
rated bonds. The BB rating is the strongest credit rating available in the high
yield sector. As of July 31, 1996, over one-third of net assets were invested in
BB rated securities, compared to less than a quarter of net assets last year at
this time (see pie charts on page four). To build diversification, we increased
the number of bonds in the portfolio and reduced positions which comprised more
than 1% of assets. We increased liquidity by selling many of the smaller issues
and reinvesting in bond issues with market capitalizations of greater than $100
million. Finally, we eliminated equity positions that had been related to older
bond issues. We reinvested the proceeds in higher yielding, income-producing
securities.
Q How have these changes affected performance?
A While we were only six months into the new strategy at the end of the period,
we believe we have begun to see some promising signs. As of July 31, the Fund's
price volatility has been reduced by one-third since the beginning of the year.
Further, the portfolio has kept pace with its peers through much of 1996. While
we were pleased with these short-term results, we realize that a record of
long-term, consistent performance can take time to build. We intend to continue
to work hard toward this goal every day.
Q What was the environment like for high yield bonds over the past twelve
months?
A The environment was favorable, although investors dealt with two different
interest rate climates. Last year was favorable for fixed-income securities
in general. Slow economic growth and low inflation drove interest rates close
to historically low levels. High
Fund Profile
Objective: Seeks generous income primarily from high yield corporate bonds.
Commencement of investment operations: September 11, 1935
Number of bonds: 140
Net assets: $594 million
Newspaper listing: "HiIncB4"
<PAGE>
PAGE 4
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Keystone High Income Bond Fund (B-4)
Portfolio Quality Summary (July 31, 1995)(1)
[PIE CHART 1]
B (47%)
BB (23%)
Other(2) (16%)
Not rated (13%)
CCC or lower (1%)
(percentage of portfolio assets)
Portfolio Quality Summary (July 31, 1996)
[PIE CHART 2]
B (51%)
BB (37%)
BBB (2%)
Other(2) (6%)
Not rated (3%)
CCC or lower (1%)
1 Where Standard & Poor's (S&P) ratings were not available, we have used ratings
from Moody's Investor Service, Inc., Fitch Investor's Service, Inc. or ratings
assigned by another nationally recognized statistical rating organization.
2 Includes common stocks and warrants, short-term investments, and other assets
and liabilities.
yield bonds participated in that rally to some extent. Then, interest rates rose
in early 1996. The economy gained strength and investors grew concerned about
future inflation. The prices of fixed-income securities in general fell.
However, the prices of high yield bonds held their value better than other
fixed-income securities.
[LINE CHART]
High Yield Default Rate
0-5% 1985 1989 1995 1996 through 3/31
Source: Merrill Lynch & Co.
Plot Points
1.708 4.285 1.896 0.174
Q What caused high yield bonds to outperform other types of bonds?
A Higher yields and the potential for price appreciation attracted many
investors to the high yield bond market during the low interest rate
environment. This demand forced yields on high yield bonds to historically low
levels relative to U.S. Treasuries, a benchmark we look at in determining the
relative attractiveness of high yield bonds. Refinancings and takeovers in the
health care and broadcasting industries also were positive factors for high
yield bonds.
Q What is your economic outlook for the next six months?
A We share the view of Federal Reserve Board Chairman Alan Greenspan that the
economy will grow more slowly through the beginning of 1997 and that there will
be few inflationary pressures. That should provide a neutral environment for
high yield bonds. Slow growth and an aging economic cycle, however, puts
pressure on many high yield issuers. Default rates have been relatively low and
we would not be surprised to see them rise (see chart at the bottom of
<PAGE>
PAGE 5
- ------------------------------------
page four). Further, the peak time for a bond to default is three to five years
from issuance. Many new bonds came to market in the early 1990s after a period
of limited supply. We don't expect the default rate to soar, but the potential
for an increase in the default rate exists.
Q What other factors do you expect to effect the high yield bond market?
A We believe that some of the favorable trends currently in place in the high
yield market will continue. We think investors have begun to emphasize quality
over yield. This trend should continue in light of the recent volatility in the
stock and bond markets and the anticipated weaker economy. Because the portfolio
has had a relatively high concentration of higher quality bonds, we think this
should be positive for the Fund's holdings. We have continued to believe that
higher quality high yield bonds should provide greater investment value as we
move into a positive, but slow growth environment.
Q What are the benefits of investing in high yield bonds?
A High yield bonds offer long-term investors above average income and the
potential for capital appreciation. They provide a more generous stream of
income to compensate for the increased risk associated with investment in lower
quality bonds. We attempt to reduce risk through careful credit research and
analysis, and portfolio diversification. Careful diversification helps to reduce
the risk associated with individual holdings. Keystone's team of high yield
analysts meet with company managements and monitor portfolio holdings on an
ongoing basis. We will continue to seek bonds with generous yields at attractive
values that we believe provide the optimal balance of risk and reward given
current market conditions.
Top 5 Industries
as of July 31, 1996
Percentage
Industry of net assets
Cable/Other Video Distribution 9.5
Energy 8.6
Gaming 8.4
Forest products/containers 5.6
Wireless communications 5.4
Q What factors influence the performance of high yield bonds the most?
A The cyclical movements of the economy, inflation, and interest rates are the
most significant influences on the performance of high yield bonds. By nature,
high yield bonds are less affected by the direction of interest rates than high
grade corporate and government bonds. Consequently, when interest rates declined
during 1995, high yield bonds appreciated to a lesser extent than high grade
bonds. Conversely, as interest rates rose in early 1996, high yield bonds were
affected less by price declines than many high grade bonds.
[DIAMOND]
This column is intended to answer questions about your Fund. If you
have a question you would like answered, please write to:
Keystone Investment Distributors Company
Attn: Shareholder Communications, 22nd Floor
200 Berkeley Street, Boston, Massachusetts 02116-5034.
<PAGE>
PAGE 6
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Keystone High Income Bond Fund (B-4)
Your Fund's Performance
[MOUNTAIN CHART]
Growth of an investment in
Keystone High Income Bond Fund (B-4)
0-$24
Reinvested Distributions Initial Investment Total Value: $17,207
7/86 7/88 7/90 7/92 7/94 7/96
PLOT POINTS
10000 10000
9480 10715
8552 10892
7896 11432
6213 10535
5186 10538
5866 13410
6349 16129
5792 16063
5470 16973
5074 17207
A $10,000 investment in Keystone High Income Bond Fund (B-4)
made on July 31, 1986 with all distributions reinvested was worth $17,207
on July 31, 1996. Past performance is no guarantee of future results.
Twelve-Month Performance as of July 31, 1996
- ---------------------------------------------------
Total return* 1.38%
Net asset value 7/31/95 $4.42
7/31/96 $4.10
Dividends $0.37
Capital gains None
* Before deduction of contingent deferred sales charge (CDSC).
Historical Record as of July 31, 1996
- ---------------------------------------------------------------
If you If you did
Cumulative total return redeemed not redeem
1-year -1.41% 1.38%
5-year 63.28% 63.28%
10-year 72.07% 72.07%
Average annual total return
1-year -1.41% 1.38%
5-year 10.30% 10.30%
10-year 5.58% 5.58%
Top 10 Holdings
as of July 31, 1996
Percentage
Bonds of net assets
Ampex (preferred stock) 2.5
Iowa Select Farms 1.4
AK Steel 1.0
Teleport Communications Group 1.0
Park Broadcasting 1.0
American Life 1.0
Showboat 1.0
Conseco 1.0
Rexene 0.9
Schuller International 0.9
The "If you redeemed" returns reflect the deduction of the 3% contingent
deferred sales charge (CDSC) for those investors who bought and sold Fund shares
after one calendar year. Investors who retained their fund investment earned the
returns reported in the second column of the table.
The investment return and principal value will fluctuate so that your shares,
when redeemed, may be worth more or less than the original cost.
You may exchange your shares for another Keystone fund by phone or in writing
for a $10 fee. The exchange fee is waived for individual investors who make an
exchange using Keystone's Automated Response Line (KARL). The Fund reserves the
right to change or terminate the exchange offer.
<PAGE>
PAGE 7
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Growth of an Investment
[LINE CHART]
Comparison of change in value of a $10,000 investment in Keystone High Income
Bond Fund (B-4), the Lehman Aggregate Bond Index and the Consumer Price Index.
In Thousands July 31, 1986 through July 31, 1996
0-$30
Fund Average Annual Total Return
- --------------------------------
1 Year 5 Year 10 Year
- -1.41% 10.30% 5.58%
LABI $22,481 Fund $17,207 CPI $14,338
7/86 7/88 7/90 7/92 7/94 7/96
[PLOT POINTS]
7/86 10000 10000 10000
10715 10411 10393
7/88 10892 11199 10822
11432 12902 11361
7/90 10535 13812 11909
10538 15286 12438
7/92 13410 17546 12831
16129 19332 13187
7/94 16063 19348 13552
16973 21304 13927
7/96 17207 22481 14338
[line] Fund [line] Lehman Aggregate Bond Index (LABI)
[line] Consumer Price Index (CPI)
Past performance is no guarantee of future results. The one-year return reflects
the deduction of the Fund's 3% contingent deferred sales charge for shares held
for at least one year.
This chart graphically compares your Fund's total return performance to certain
investment indexes. It is the result of fund performance guidelines issued by
the Securities and Exchange Commission. The intent is to provide investors with
more information about their investment.
Components of the chart
The chart is composed of several lines that represent the accumulated value of
an initial $10,000 investment for the period indicated. The lines illustrate a
hypothetical investment in:
1. Keystone High Income Bond Fund (B-4)
The Fund seeks generous income primarily from high yield corporate bonds. Total
return quotations are stated after deducting sales charges (if applicable), fund
expenses and transaction costs, and assumes reinvestment of all distributions.
2. Lehman Aggregate Bond Index (LABI)
The LABI is a broad-based, unmanaged fixed-income index of U.S. government,
corporate and mortgage-backed securities. It represents the price change and
coupon income of several thousand securities of various credit qualities and
maturities. Securities are selected and compiled by Lehman Brothers, Inc.
according to criteria that may be unrelated to your Fund's investment objective.
It would be difficult for most individual investors to duplicate this index.
3. Consumer Price Index (CPI)
This index is a widely recognized measure of the cost of goods and services
produced in the U.S. The index contains factors such as prices of services,
housing, food, transportation and electricity which are compiled by the U.S.
Bureau of Labor Statistics. The CPI is generally considered a valuable benchmark
for investors who seek to outperform increases in the cost of living.
These indexes do not include transaction costs associated with buying and
selling securities, and do not hold cash to meet redemptions. It would be
difficult for most individual investors to duplicate these indexes.
Understanding what the chart means
The chart demonstrates your Fund's performance in relation to a well known
investment index and to increases in the cost of living. It is important to
understand what the chart shows and does not show.
This illustration is useful because it charts Fund and index performance over
the same time frame and over a long period. Long-term performance is a more
reliable and useful measure of performance than measurements of short-term
returns or temporary swings in the market. Your financial adviser can help you
evaluate fund performance in conjunction with the other important financial
considerations such as safety, stability and consistency.
<PAGE>
PAGE 8
- ------------------------------------
Keystone High Income Bond Fund (B-4)
Limitations of the chart
The chart, however, limits the evaluation of Fund performance in several ways.
Because the measurement is based on total returns over an extended period of
time, the comparison often favors those funds which emphasize capital
appreciation when the market is rising. Likewise, when the market is declining,
the comparison usually favors those funds which take less risk.
Performance can be distorted
Funds which are more conservative in their orientation and which place an
emphasis on capital preservation will tend to compare less favorably when the
market is rising. In addition, funds which have income as one of their
objectives also will tend to compare less favorably to relevant indexes.
Indexes may also reflect the performance of some securities which a fund may be
prohibited from buying. A bond fund, for example, may be limited to investments
in only high quality bonds, or a stock fund may only be able to buy stocks that
have been traded on a stock exchange for a minimum number of years or stocks
that have a certain market capitalization. Indexes usually do not have the same
investment restrictions as your Fund.
Indexes do not include the costs of investing
The comparison is further limited in its utility because the indexes do not take
into account any deductions for sales charges, transaction costs or other fund
expenses. Your Fund's performance figures do reflect such deductions. Sales
charges--whether up-front or deferred--pay for the cost of the investment advice
of your financial adviser. Transaction costs pay for the costs of buying and
selling securities for your Fund's portfolio. Fund expenses pay for the costs of
investment management and various shareholder services. None of these costs are
reflected in index total returns. The comparison is not completely realistic
because an index cannot be duplicated by an investor--even an unmanaged
index--without incurring some charges and expenses.
One of several measures
The chart is one of several tools you can use to understand your investment. It
should be read in conjunction with the Fund's prospectus, and annual and
semiannual reports. Also, your financial adviser, who understands your personal
financial situation, can best explain the features of your Keystone fund and how
it applies to your financial needs.
Future returns may be different
Shareholders also should be mindful that the long-run performance of either the
Fund or the indexes is not representative of what shareholders should expect to
receive from their Fund investment in the future; it is presented to illustrate
only past performance and is not a guarantee of future returns.
<PAGE>
PAGE 9
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SCHEDULE OF INVESTMENTS--July 31, 1996
<TABLE>
<CAPTION>
Interest Maturity Par Market
Rate Date Value Value
- ----------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
FIXED INCOME (91.7%)
INDUSTRIAL BONDS & NOTES (90.5%)
AEROSPACE (4.5%)
Airplane Pass Thru Trust Bond (Subord.) 10.875% 2019 $5,000,000 $ 5,200,000
BE Aerospace, Incorporated Sr. Notes (Subord.) 9.875 2006 5,000,000 4,987,500
CHC Helicopter Corporation Sr. Notes (Subord.) 11.500 2002 2,500,000 2,387,500
Continental Airlines, Incorporated (c) Sr. Equip. Trust Cert. 16.000 1999 1,075,275 1,075,275
Greenwhich Air Services, Incorporated Sr. Notes 10.500 2006 5,000,000 5,025,000
Moog, Incorporated (h) Sr. Notes (Subord.) 10.000 2006 3,500,000 3,526,250
Sequa Corporation Sr. Notes 8.750 2001 1,000,000 972,500
UNC Inc. (h) Sr. Notes (Subord.) 11.000 2006 2,500,000 2,537,500
Valujet, Incorporated (h) Sr. Notes 10.250 2001 1,000,000 755,000
- -----------------------------------------------------------------------------------------------------------------
26,466,525
- -----------------------------------------------------------------------------------------------------------------
BROADCASTING (5.0%)
Ackerly Communications, Incorporated Sr. Notes 10.750 2003 3,850,000 3,984,750
EZ Communications, Incorporated Sr. Notes (Subord.) 9.750 2005 3,000,000 2,955,000
K-III Communications Corporation (h) Sr. Notes 8.500 2006 5,000,000 4,575,000
Park Broadcasting, Incorporated (h) Sr. Notes 11.750 2004 5,000,000 5,750,000
Paxson Communications Corporation Sr. Notes (Subord.) 11.625 2002 5,000,000 5,200,000
SFX Broadcasting, Incorporated (h) Sr. Notes (Subord.) 10.750 2006 4,000,000 4,020,000
Sinclair Broadcast Group, Incorporated Sr. Notes (Subord.) 10.000 2005 3,000,000 2,947,500
- -----------------------------------------------------------------------------------------------------------------
29,432,250
- -----------------------------------------------------------------------------------------------------------------
CABLE/OTHER VIDEO DISTRIBUTION (9.5%)
Adelphia Communications Corporation Sr. Notes 12.500 2002 4,000,000 4,110,000
Cablevision Systems Corporation Sr. Notes (Subord.) 10.500 2016 5,500,000 5,280,000
Charter Communications, South Eastern
Capital Limited Partnership (h) Sr. Notes 11.250 2006 5,000,000 4,900,000
Comcast Corporation Sr. Notes (Subord.) 10.625 2012 4,000,000 4,180,000
Diamond Cable Communications Company
(Eff. Yield 11.57%) (d) Sr. Disc. Notes 0.000 2004 7,000,000 5,040,000
Fundy Cable Limited Sr. Notes 11.000 2005 4,825,000 4,897,375
Lenfest Communications, Incorporated Sr. Notes 8.375 2005 5,000,000 4,550,000
Marcus Cable Operations Limited Sr. Disc. Notes
Partnership (Eff. Yield 12.06%) (d) (Subord.) 0.000 2004 7,000,000 5,040,000
People's Choice T.V. Corporation Unit (Sr. Disc.
(Eff. Yield 12.47%) (d) Notes/Wts.) 0.000 2004 6,000,000 3,450,000
Rogers Cablesystems Limited Sr. Notes 10.000 2005 5,000,000 4,975,000
Videotron Group Limited Sr. Notes (Subord.) 10.250 2002 1,350,000 1,390,500
Videotron Group Limited Deb.(Subord.) Voting Conv.10.625 2005 3,750,000 3,956,250
Videotron Holdings PLC (Eff. Yield
9.70%) (d) Sr. Disc. Notes 0.000 2005 7,000,000 4,567,500
- -----------------------------------------------------------------------------------------------------------------
56,336,625
- -----------------------------------------------------------------------------------------------------------------
(continued on next page)
<PAGE>
PAGE 10
- -----------------------------------
Keystone High Income Bond Fund (B-4)
SCHEDULE OF INVESTMENTS--July 31, 1996
Interest Maturity Par Market
Rate Date Value Value
- -----------------------------------------------------------------------------------------------------------------
CHEMICALS (4.2%)
G I Holdings, Incorporated Sr. Notes 10.000% 2006 $4,816,000 $ 4,647,440
Lanesborough Corporation Sr. Secd. Notes 10.000 2000 1,500,000 1,290,000
Rexene Corporation Sr. Notes 11.750 2004 5,000,000 5,462,500
Scotts Company Sr. Notes (Subord.) 9.875 2004 3,000,000 3,075,000
Sifto Canada, Incorporated Sr. Notes 8.500 2000 3,000,000 2,910,000
Texas Petrochemical Corporation (h) Sr. Notes (Subord.) 11.125 2006 2,500,000 2,575,000
Viridian, Incorporated Notes 9.750 2003 5,000,000 5,137,500
- -----------------------------------------------------------------------------------------------------------------
25,097,440
- -----------------------------------------------------------------------------------------------------------------
CONSUMER (3.0%)
Dominion Textile USA Sr. Notes 9.250 2006 4,075,000 3,962,935
Exide Corporation Sr. Notes 10.000 2005 5,000,000 4,900,000
International Semi-Tech Electronics,
Incorporated (Eff. Yield 11.96%) (d) Sr. Notes 0.000 2003 8,000,000 4,520,000
Revlon Worldwide Corporation
(Eff. Yield 13.00%) (d) Sr. Disc. Notes 0.000 1998 5,000,000 4,181,250
- -----------------------------------------------------------------------------------------------------------------
17,564,185
- -----------------------------------------------------------------------------------------------------------------
DIVERSIFIED MEDIA (2.7%)
Affinity Group, Incorporated Sr. Notes (Subord.) 11.500 2003 5,000,000 5,100,000
American Media Operations,
Incorporated Sr. Notes (Subord.) 11.625 2004 2,000,000 2,030,000
Lamar Advertising Company Sr. Secd. Notes 11.000 2003 4,000,000 4,160,000
Viacom, Incorporated Deb. (Subord.) 8.000 2006 5,000,000 4,575,000
Exchangeable
- -----------------------------------------------------------------------------------------------------------------
15,865,000
- -----------------------------------------------------------------------------------------------------------------
ENERGY (8.6%)
Clark USA, Incorporated Sr. Notes 10.875 2005 5,000,000 5,037,500
Cliffs Drilling (h) Sr. Notes 10.250 2003 2,000,000 1,995,000
Crown Central Petroleum Corporation Sr. Notes 10.875 2005 5,000,000 5,075,000
Dual Drilling Company Sr. Notes (Subord.) 9.875 2004 4,550,000 4,777,500
Falcon Drilling Sr. Notes 8.875 2003 5,000,000 4,800,000
Ferrellgas Partners Limited
Partnership (h) Sr. Notes 9.375 2006 3,850,000 3,715,250
Gerrity Oil & Gas Corporation Sr. Notes (Subord.) 11.750 2004 2,400,000 2,544,000
Gulf Canada Resources Limited Sr. Notes (Subord.) 9.625 2005 5,175,000 5,213,813
Mesa Operating Company Sr. Notes (Subord.) 10.625 2006 3,500,000 3,578,750
Nuevo Energy Company Sr. Notes (Subord.) 9.500 2006 3,000,000 2,940,000
Plains Resources, Incorporated (h) Sr. Notes (Subord.) 10.250 2006 2,500,000 2,475,000
Seagull Energy Corporation Sr. Notes (Subord.) 8.625 2005 1,000,000 960,000
TransTexas Gas Corporation Sr. Notes 11.500 2002 3,000,000 2,985,000
Vintage Petroleum, Incorporated Sr. Notes (Subord.) 9.000 2005 5,000,000 4,812,500
- -----------------------------------------------------------------------------------------------------------------
50,909,313
- -----------------------------------------------------------------------------------------------------------------
<PAGE>
PAGE 11
- --------------------------------------
SCHEDULE OF INVESTMENTS--July 31, 1996
Interest Maturity Par Market
Rate Date Value Value
- -----------------------------------------------------------------------------------------------------------------
FINANCIAL (4.1%)
American Life Holding Company Sr. Notes (Subord.) 11.250% 2004 $ 5,500,000 $ 5,747,500
Chartwell Reinsurance Holdings
Corporation Sr. Notes 10.250 2004 3,575,000 3,753,750
Conseco, Incorporated Sr. Notes 10.500 2004 5,000,000 5,685,000
First Nationwide Parent Holdings Sr. Notes 12.500 2003 4,200,000 4,410,000
(Exchangeable)
Reliance Group Holdings, Incorporated Sr. Deb. (Subord.) 9.750 2003 5,000,000 4,950,000
- -----------------------------------------------------------------------------------------------------------------
24,546,250
- -----------------------------------------------------------------------------------------------------------------
FOODS/TOBACCO/BEVERAGES (4.2%)
American Rice, Incorporated Mtg. Notes 13.000 2002 2,550,000 2,346,000
Chiquita Brands International,
Incorporated Sr. Notes 10.250 2006 3,000,000 2,985,000
Cott Corporation Sr. Notes 9.375 2005 3,500,000 3,377,500
Iowa Select Farms (Eff. Yield 15.26%)
(8/02/94--$8,977,379) (c) (d) (f) Sr. Disc. Notes 0.000 2004 15,000,000 8,328,000
PM Holdings Corporation (Eff. Yield Unit (Sr. Disc.
11.62%) (d) Notes/Wts.) 0.000 2005 1,812,000 1,001,130
PMI Acquisition Corporation Sr. Notes (Subord.) 12.250 2003 1,750,000 1,697,500
TLC Beatrice International Holdings,
Incorporated Sr. Notes 11.500 2005 5,000,000 5,075,000
- -----------------------------------------------------------------------------------------------------------------
24,810,130
- -----------------------------------------------------------------------------------------------------------------
FOREST PRODUCTS/CONTAINERS (5.6%)
Buckeye Cellulose Corporation Sr. Notes (Subord.) 8.500 2005 5,000,000 4,762,500
Calmar, Incorporated Sr. Notes (Subord.) 11.500 2005 4,000,000 3,890,000
Container Corporation of America Sr. Notes 11.250 2004 2,500,000 2,600,000
Four M Corporation (h) Sr. Notes 12.000 2006 2,500,000 2,550,000
Owens-Illinois, Incorporated Sr. Deb. 11.000 2003 5,000,000 5,387,500
Packaging Resources, Incorporated (h) Sr. Notes (Subord.) 11.625 2003 4,000,000 4,040,000
Riverwood International Corporation Sr. Notes 10.250 2006 5,000,000 4,925,000
Tembec Finance Corporation Sr. Notes 9.875 2005 5,500,000 5,115,000
- -----------------------------------------------------------------------------------------------------------------
33,270,000
- -----------------------------------------------------------------------------------------------------------------
GAMING (8.4%)
California Hotel Finance Corporation Liquid Real Estate Trust 11.000 2002 5,000,000 5,212,500
Colorado Gaming and Entertainment
Company (f) Sr. Secd. PIK Notes 12.000 2003 4,778,393 4,443,905
Grand Casinos, Incorporated 1st Mtg. Notes 10.125 2003 5,000,000 4,900,000
Grand Palais Casino, Incorporated
(8/15/94--$7,750,000) (b) (c) (e) Sr. Secd. PIK Notes 18.250 1997 8,571,123 86
HMH Properties, Incorporated Sr. Notes 9.500 2005 5,000,000 4,800,000
Livingwell, Incorporated (b) (c) (e) Sr. Deb. (Subord.) 14.125 1996 2,200,000 22
Livingwell, Incorporated (b) (c) (e) Sr. Deb. (Subord.) 13.125 2001 2,000,000 20
Prime Hospitality Corporation 1st Mtg. Notes 9.250 2006 5,000,000 4,868,750
Resorts International Hotels 1st Mtg. Notes 11.000 2003 2,500,000 2,550,000
Showboat, Incorporated Sr. Notes (Subord.) 13.000 2009 5,000,000 5,700,000
Six Flags Theme Parks, Incorporated Sr. Notes (Subord.) 12.250 2005 5,000,000 4,250,000
(continued on next page)
<PAGE>
PAGE 12
- -----------------------------------
Keystone High Income Bond Fund (B-4)
SCHEDULE OF INVESTMENTS--July 31, 1996
Interest Maturity Par Market
Rate Date Value Value
--------------------------------------------------------------------------------------------------------------
GAMING (continued)
Starcraft Corporation (b) (c) (e) Notes (Subord.) 16.500% 1998 $6,925,000 $ 138,500
Station Casinos, Incorporated Sr. Notes (Subord.) 10.125 2006 5,000,000 4,850,000
Trump Atlantic City Associates 1st Mtg. Notes 11.250 2006 5,000,000 4,875,000
Wyndham Hotel Corporation Sr. Notes (Subord.) 10.500 2006 3,500,000 3,508,750
- ---------------------------------------------------------------------------------------------------------------
50,097,533
- ---------------------------------------------------------------------------------------------------------------
HEALTHCARE (3.6%)
Dynacare, Incorporated Sr. Notes 10.750 2006 5,000,000 5,006,250
Genesis Health Sr. Notes (Subord.) 9.750 2005 5,000,000 5,025,000
Quorum Health Group, Incorporated Sr. Notes (Subord.) 8.750 2005 2,500,000 2,437,500
Regency Health Services, Incorporated Sr. Notes (Subord.) 9.875 2002 5,000,000 4,850,000
Universal Health Services,
Incorporated Sr. Notes 8.750 2005 4,000,000 3,900,000
- ---------------------------------------------------------------------------------------------------------------
21,218,750
- ---------------------------------------------------------------------------------------------------------------
HOUSING (1.7%)
Continental Homes Holding Corporation Sr. Notes 10.000 2006 5,000,000 4,750,000
Schuller International Group,
Incorporated Sr. Notes 10.875 2004 5,000,000 5,400,000
- ---------------------------------------------------------------------------------------------------------------
10,150,000
- ---------------------------------------------------------------------------------------------------------------
MANUFACTURING (5.2%)
AAF McQuay, Incorporated Sr. Notes 8.875 2003 5,000,000 4,800,000
Alpine Group, Incorporated Sr. Notes 12.250 2003 4,000,000 4,080,000
Chatwins Group, Incorporated Sr. Notes 13.000 2003 4,000,000 3,560,000
Collins & Aikman Products Company Sr. Notes (Subord.) 11.500 2006 5,000,000 5,112,500
Hayes Wheels International,
Incorporated Sr. Notes (Subord.) 11.000 2006 2,500,000 2,543,750
Key Plastics, Incorporated (c) Sr. Notes 14.000 1999 3,500,000 3,517,500
Koppers Industries, Incorporated Sr. Notes 8.500 2004 3,000,000 2,857,500
Mark IV Industries, Incorporated Sr. Notes (Subord.) 7.750 2006 5,000,000 4,637,500
- ---------------------------------------------------------------------------------------------------------------
31,108,750
- ---------------------------------------------------------------------------------------------------------------
METALS/MINERALS (4.6%)
AK Steel Corporation Sr. Notes 10.750 2004 5,750,000 6,224,375
Bethlehem Steel Corporation Sr. Notes 10.375 2003 5,000,000 5,200,000
GS Technologies Operations,
Incorporated Sr. Notes 12.250 2005 4,000,000 4,110,000
Jorgensen Earle Sr. Notes 10.750 2000 4,000,000 3,960,000
WCI Steel, Incorporated Sr. Notes 10.500 2002 5,000,000 5,075,000
Weirton Steel Corporation (h) Sr. Notes 10.750 2005 3,000,000 2,812,500
- ---------------------------------------------------------------------------------------------------------------
27,381,875
- ---------------------------------------------------------------------------------------------------------------
RETAIL (4.5%)
Cole National Group, Incorporated Sr. Notes 11.250 2001 3,500,000 3,675,000
Finlay Enterprises (Eff. Yield 9.12%) (d) Sr. Disc. Deb. 0.000 2005 2,000,000 1,595,000
Finlay Fine Jewelry Corporation Sr. Notes 10.625 2003 3,000,000 2,962,500
<PAGE>
PAGE 13
- --------------------------------------
SCHEDULE OF INVESTMENTS--July 31, 1996
Interest Maturity Par Market
Rate Date Value Value
- -----------------------------------------------------------------------------------------------------------------
RETAIL (continued)
Hills Stores Company (h) Sr. Notes 12.500% 2003 $3,500,000 $ 3,150,000
Michaels Stores, Incorporated Sr. Notes 10.875 2006 4,500,000 4,455,000
Pamida, Incorporated Sr. Notes (Subord.) 11.750 2003 3,000,000 2,550,000
Pantry, Incorporated Sr. Notes 12.000 2000 3,500,000 3,150,000
Service Merchandise Company Sr. Deb. (Subord.) 9.000 2004 3,750,000 3,225,000
Southland Corporation Sr. Deb. (Subord.) 5.000 2003 2,500,000 1,950,000
- -----------------------------------------------------------------------------------------------------------------
26,712,500
- -----------------------------------------------------------------------------------------------------------------
TELECOMMUNICATIONS (3.3%)
Bell Cablemedia PLC (Eff. Yield
10.67%) (d) Sr. Disc. Notes 0.000 2005 6,675,000 4,138,500
MFS Communication (Eff. Yield 8.49%)
(d) Sr. Disc. Notes 0.000 2004 7,000,000 5,250,000
Teleport Communications Group Sr. Notes 9.875 2006 6,200,000 5,952,000
Telewest PLC (Eff. Yield 9.86%) (d) Sr. Disc. Deb. 0.000 2007 7,000,000 4,095,000
- -----------------------------------------------------------------------------------------------------------------
19,435,500
- -----------------------------------------------------------------------------------------------------------------
TRANSPORTATION (2.4%)
Eletson Holdings, Incorporated 1st Pfd. Mtg. Notes 9.250 2003 3,000,000 2,865,000
Gearbulk Holding Limited Sr. Notes 11.250 2004 5,000,000 5,200,000
Stena AB Sr. Notes 10.500 2005 5,000,000 4,962,500
Teekay Shipping Corporation 1st Mtg. Notes 8.320 2008 1,500,000 1,410,000
- -----------------------------------------------------------------------------------------------------------------
14,437,500
- -----------------------------------------------------------------------------------------------------------------
WIRELESS COMMUNICATIONS (5.4%)
Centennial Cellular Corporation Sr. Notes 8.875 2001 5,000,000 4,650,000
Comcast Celluar Corporation
(Eff. Yield 13.42%) (d) Part. Disc. Notes 0.000 2000 7,000,000 4,777,500
Mobile Telecommunication Technology Sr. Notes (Subord.) 13.500 2002 4,500,000 4,747,500
Pagemart Nationwide, Inc. (Eff. Yield Unit (Sr. Disc.
10.80%) (d) Notes/Wts.) 0.000 2005 7,000,000 4,445,000
Pricecellular Wireless Corporation
(Eff. Yield 10.64%) (d) Sr. Disc. Notes 0.000 2003 5,750,000 4,542,500
Rogers Cantel Sr. Deb. 9.375 2008 4,500,000 4,365,000
Vanguard Celluar Systems,
Incorporated Deb. 9.375 2006 5,000,000 4,825,000
- -----------------------------------------------------------------------------------------------------------------
32,352,500
- -----------------------------------------------------------------------------------------------------------------
TOTAL INDUSTRIAL BONDS & NOTES (Cost--$560,951,237) 537,192,626
- -----------------------------------------------------------------------------------------------------------------
FOREIGN BONDS (U.S. DOLLARS) (1.2%)
Intermedia Capital Partners (h) Sr. Notes 11.250 2006 3,000,000 3,007,500
Yacimientos Petroliferos Fiscales
S.A. (YPF) Unsecd. Notes 8.000 2004 4,500,000 3,993,750
- -----------------------------------------------------------------------------------------------------------------
TOTAL FOREIGN BONDS (U.S. DOLLARS) (Cost--$7,056,779) 7,001,250
- -----------------------------------------------------------------------------------------------------------------
TOTAL FIXED INCOME (Cost $568,008,016) 544,193,876
- -----------------------------------------------------------------------------------------------------------------
(continued on next page)
</TABLE>
<PAGE>
PAGE 14
- ------------------------------------
Keystone High Income Bond Fund (B-4)
SCHEDULE OF INVESTMENTS--July 31, 1996
<TABLE>
<CAPTION>
Market
Shares Value
- --------------------------------------------------------------------------------------------------------------
<S> <C> <C>
COMMON STOCKS/WARRANTS (1.4%)
Casino America, Incorporated (e) 269,890 $ 1,838,626
Casino America, Incorporated, wts. (e) 47,778 47,778
Chatwins Group, Incorporated, wts. (c) (e) 9,500 9,500
CHC Helicopter Corporation, wts. (e) 76,000 38,000
Colorado Gaming and Entertainment Company (e) (f) 477,839 1,552,977
Grand Palais Casinos, Incorporated, Series A, wts. (8/15/94--$2,507) (c) (e) 250,735 251
Grand Palais Casinos, Incorporated, Series B, wts. (8/15/94--$1,368) (c) (e) 136,765 137
Grand Palais Casinos, Incorporated, Series C, wts. (8/15/94--$12,080) (c) (e) 1,208,088 1,208
Grand Palais Casinos, Incorporated, Series D, wts. (8/15/94--$680,643) (c) (e) 680,643 681
Grand Palais Casinos, Incorporated, Ltd. Liab. Int. (8/15/94--$0) (c) (e) 931,379 931
Iowa Select Farm, wts. (2/04/94--$2,462,581) (c) (e) (f) 298,530 298,530
Lanesborough Corporation (c) (e) 2,056 21
Nextel Communications Incorporated, wts. (e) 9,510 95
Pagemart, Inc., wts. (e) (h) 83,030 498,180
PM Holdings Corporation (e) 2,964 3
Specialty Equipment Cos., Incorporated (e) 351,900 3,694,950
Specialty Foods Acquisition Corporation (e) 131,250 65,625
- --------------------------------------------------------------------------------------------------------------
TOTAL COMMON STOCKS/WARRANTS (Cost--$9,108,637) 8,047,493
- --------------------------------------------------------------------------------------------------------------
PREFERRED STOCK (2.5%)
Ampex Corp. (Cost--$23,987,332) (c) (e) 24,562 15,004,312
- --------------------------------------------------------------------------------------------------------------
- --------------------------------------------------------------------------------------------------------------
MISCELLANEOUS INVESTMENT (0.0%)
Gold River Hotel and Casino
Corporation (Cost--$424,084) (c) (e) Liquidating R.E. Trust 10,775,000 107,750
- --------------------------------------------------------------------------------------------------------------
</TABLE>
<TABLE>
<CAPTION>
Interest Maturity Maturity
Rate Date Value
- --------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
REPURCHASE AGREEMENT (1.2%)
Keystone Joint Repurchase Agreement (Investments
in repurchase agreements, in a joint trading
account, purchased 7/31/96) (Cost--$7,200,000)
(g) 5.687% 08/01/96 $7,201,137 7,200,000
- --------------------------------------------------------------------------------------------------------------
TOTAL INVESTMENTS (Cost--$608,728,069) (a) 574,553,431
- --------------------------------------------------------------------------------------------------------------
OTHER ASSETS AND LIABILITIES--NET (3.2%) 19,127,315
- --------------------------------------------------------------------------------------------------------------
NET ASSETS (100.0%) $593,680,746
- --------------------------------------------------------------------------------------------------------------
</TABLE>
<PAGE>
PAGE 15
- -------------------------------------------------------------------------------
(a) The cost of investments for federal income tax purposes amounted to
$612,891,254. Gross unrealized appreciation and depreciation of investments,
based on identified tax cost at July 31, 1996 are as follows:
<TABLE>
<CAPTION>
<S> <C>
Gross unrealized appreciation $ 10,298,740
Gross unrealized depreciation $(48,636,563)
--------------
Net unrealized depreciation $(38,337,823)
==============
</TABLE>
(b) Securities which have defaulted on payment of interest and/or principal. The
Fund has stopped accruing income on those so identified. At July 31, 1996, the
fair value of these securities was $138,628.
(c) All or a portion of these securities are either (1) restricted (i.e.,
securities which may not be publicly sold without registration under the Federal
Securities Act of 1933) or (2) illiquid securities, and are valued using market
quotations where readily available. In the absence of market quotations, the
securities are valued based upon their fair value determined under procedures
approved by the Board of Trustees. The Fund may make investments in an amount up
to 15% of the value of the Fund's net assets in such securities. The date of
acquisition and costs are set forth in parentheses after the title of each
restricted security. On the date of acquisition there were no market quotations
on similar securities and the above securities were valued at acquisition cost.
At July 31, 1996, the fair value of these restricted securities was $8,629,824.
(d) Effective yield (calculated at date of purchase) is the yield at which the
bond accretes on an annual basis until maturity date.
(e) Non-income-producing security.
(f) Affiliated issuers are those in which the Fund's holdings of an issuer
represents 5% or more of the outstanding voting securities of the issuer. The
Fund has never owned enough of the outstanding voting securities of any issuer
to have control (as defined in the Investment Company Act of 1940) of that
issuer. At July 31, 1996, the fair value of these securities was $14,623,412
(2.5% of the Fund's net assets).
(g) The repurchase agreements are fully collateralized by U.S. Government and/or
agency obligations based on market prices at July 31, 1996.
(h) Securities that may be resold to "qualified institutional buyers" under Rule
144A or securities offered pursuant to Section 4(2) of the Securities Act of
1933, as amended. These securities have been determined to be liquid under
guidelines established by the Board of Trustees.
See Notes to Financial Statements.
<PAGE>
PAGE 16
- ------------------------------------
Keystone High Income Bond Fund (B-4)
FINANCIAL HIGHLIGHTS
(For a share outstanding throughout each year)
<TABLE>
<CAPTION>
Year Ended July 31,
1996 1995 1994 1993
- --------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Net asset value
beginning of year $4.42 $4.68 $5.13 $4.74
- --------------------------------------------------------------------------------------------
Income from investment operations
Net investment income 0.32 0.38 0.38 0.45
Net realized and unrealized gain
(loss) on investments (0.27) (0.15) (0.38) 0.44
- --------------------------------------------------------------------------------------------
Total from investment operations 0.05 0.23 0 0.89
- --------------------------------------------------------------------------------------------
Less distributions from:
Net investment income (0.31) (0.37) (0.38) (0.45)
In excess of net investment income (0.06) (0.02) (0.07) (0.05)
Tax basis return of capital 0 (0.10) 0 0
Net realized gain on investments 0 0 0 0
- --------------------------------------------------------------------------------------------
Total distributions (0.37) (0.49) (0.45) (0.50)
- --------------------------------------------------------------------------------------------
Net asset value end of year $4.10 $4.42 $4.68 $5.13
- --------------------------------------------------------------------------------------------
Total return (a) 1.38% 5.66% (0.41%) 20.28%
Ratios/supplemental data
Ratios to average net assets:
Total expenses 1.94%(b) 2.03% 1.84% 2.06%
Net investment income 7.92% 8.64% 7.57% 9.30%
Portfolio turnover rate 116% 82% 110% 125%
- --------------------------------------------------------------------------------------------
Net assets end of year (thousands) $593,681 $764,965 $766,283 $972,164
- --------------------------------------------------------------------------------------------
</TABLE>
<TABLE>
<CAPTION>
1992 1991 1990 1989 1988 1987
- ------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
Net asset value
beginning of year $4.19 $5.02 $6.38 $6.91 $7.66 $8.08
- ------------------------------------------------------------------------------------------------------------
Income from investment operations
Net investment income 0.49 0.61 0.68 0.83 0.80 0.81
Net realized and unrealized gain
(loss) on investments 0.58 (0.72) (1.18) (0.51) (0.71) (0.26)
- ------------------------------------------------------------------------------------------------------------
Total from investment operations 1.07 (0.11) (0.50) 0.32 0.09 0.55
- ------------------------------------------------------------------------------------------------------------
Less distributions from:
Net investment income (0.50) (0.72) (0.78) (0.85) (0.84) (0.90)
In excess of net investment income (0.02) 0 (0.08) 0 0 0
Tax basis return of capital 0 0 0 0 0 0
Net realized gain on investments 0 0 0 0 0 (0.07)
- ------------------------------------------------------------------------------------------------------------
Total distributions (0.52) (0.72) (0.86) (0.85) (0.84) (0.97)
- ------------------------------------------------------------------------------------------------------------
Net asset value end of year $4.74 $4.19 $5.02 $6.38 $6.91 $7.66
- ------------------------------------------------------------------------------------------------------------
Total return (a) 27.25% 0.03% (7.84%) 4.95% 1.66% 7.15%
Ratios/supplemental data
Ratios to average net assets:
Total expenses 2.17% 2.34% 2.06% 1.97% 1.82% 1.65%
Net investment income 10.86% 14.64% 12.77% 12.36% 11.29% 10.26%
Portfolio turnover rate 94% 78% 45% 75% 81% 135%
- ------------------------------------------------------------------------------------------------------------
Net assets end of year (thousands) $841,757 $710,590 $820,940 $1,188,660 $1,274,673 $1,464,891
- ------------------------------------------------------------------------------------------------------------
</TABLE>
(a) Excluding applicable sales charges.
(b) The expense ratio includes indirectly paid expenses for the year ended July
31, 1996. Excluding indirectly paid expenses, the expense ratio would have
been 1.93%.
See Notes to Financial Statements.
<PAGE>
PAGE 17
- -----------------------------------
STATEMENT OF ASSETS AND LIABILITIES
July 31, 1996
<TABLE>
<CAPTION>
Assets (Note 1)
<S> <C>
Investments at market value:
Unaffiliated issuers (identified cost--
$588,842,978) $ 559,930,019
Affiliated issuers (identified cost--$19,885,091) 14,623,412
- --------------------------------------------------------------------------
Total investments 574,553,431
- --------------------------------------------------------------------------
Cash 737
Receivable for:
Investments sold 9,582,742
Interest 12,625,275
Fund shares sold 343,102
Prepaid expenses and other assets 2,086,207
- --------------------------------------------------------------------------
Total assets 599,191,494
- --------------------------------------------------------------------------
Liabilities (Notes 1, 2 and 5)
Payable for:
Investments purchased 2,989,677
Fund shares redeemed 688,552
Distributions to shareholders 1,700,454
Due to related parties 2,000
Other accrued expenses 130,065
- --------------------------------------------------------------------------
Total liabilities 5,510,748
- --------------------------------------------------------------------------
Net assets $ 593,680,746
==========================================================================
Net assets represented by (Note 1)
Paid-in capital $1,134,809,513
Accumulated distributions in excess of net
investment income (1,700,454)
Accumulated net realized loss on investments
and foreign currency related transactions (505,253,675)
Net unrealized depreciation on investments (34,174,638)
- --------------------------------------------------------------------------
Total net assets $ 593,680,746
==========================================================================
Net Asset Value per share (Note 2)
Net asset value of $593,680,746 / 144,797,055
outstanding shares of beneficial interest $4.10
==========================================================================
</TABLE>
STATEMENT OF OPERATIONS
Year Ended July 31, 1996
<TABLE>
<CAPTION>
Investment income (Note 1)
<S> <C> <C>
Interest:
Unaffiliated issuers $ 62,440,581
Affiliated issuers 3,196,008
Other income 710,336
- ---------------------------------------------------------------------------
Total income 66,346,925
- ---------------------------------------------------------------------------
Expenses (Notes 4 and 5)
Management fee $ 3,788,171
Transfer agent fees 1,927,228
Accounting, auditing and legal 90,061
Custodian fees 349,176
Trustees' fees and expenses 42,995
Distribution Plan expenses 6,747,276
Miscellaneous expenses 157,119
- ---------------------------------------------------------------------------
Total expenses 13,102,026
Less: Expenses paid indirectly
(Note 6) (103,025)
- ---------------------------------------------------------------------------
Net expenses 12,999,001
- ---------------------------------------------------------------------------
Net investment income 53,347,924
- ---------------------------------------------------------------------------
Net realized and unrealized
loss on investments
(Notes 1 and 3)
Net realized gain on investments 12,528,472
Net change in unrealized depreciation
on investments (59,100,847)
- ---------------------------------------------------------------------------
Net realized and unrealized loss on
investments (46,572,375)
- ---------------------------------------------------------------------------
Net increase in net assets resulting
from operations $ 6,775,549
===========================================================================
</TABLE>
See Notes to Financial Statements.
<PAGE>
PAGE 18
- ------------------------------------
Keystone High Income Bond Fund (B-4)
STATEMENTS OF CHANGES IN NET ASSETS
<TABLE>
<CAPTION>
Year Ended July 31,
1996 1995
--------------------------------------------------------------------------------------------------------
<S> <C> <C>
Operations
Net investment income $ 53,347,924 $ 61,233,352
Net realized gain (loss) on investments and foreign currency related
transactions 12,528,472 (91,818,044)
Net change in unrealized appreciation (depreciation) on investments (59,100,847) 71,736,709
- ---------------------------------------------------------------------------------------------------------
Net increase in net assets resulting from operations 6,775,549 41,152,017
- ---------------------------------------------------------------------------------------------------------
Distributions to shareholders from (Note 1)
Net investment income (49,946,109) (60,319,059)
In excess of net investment income (9,344,299) (3,043,529)
Tax basis return of capital 0 (17,099,886)
- ---------------------------------------------------------------------------------------------------------
Total distributions to shareholders (59,290,408) (80,462,474)
- ---------------------------------------------------------------------------------------------------------
Capital share transactions (Note 2)
Proceeds from shares sold 162,907,187 233,171,940
Payments for shares redeemed (315,113,110) (240,425,711)
Net asset value of shares issued in reinvestment of dividends and
distributions 33,436,642 45,245,958
- ---------------------------------------------------------------------------------------------------------
Net increase (decrease) in capital share transactions (118,769,281) 37,992,187
- ---------------------------------------------------------------------------------------------------------
Total decrease in net assets (171,284,140) (1,318,270)
- ---------------------------------------------------------------------------------------------------------
Net assets
Beginning of year 764,964,886 766,283,156
- ---------------------------------------------------------------------------------------------------------
End of year [including accumulated distributions in excess of net
investment income as follows: 1996--($1,700,454) and 1995--
($5,828,773)] (Note 1) $ 593,680,746 $ 764,964,886
- ---------------------------------------------------------------------------------------------------------
</TABLE>
See Notes to Financial Statements.
<PAGE>
PAGE 19
- ----------------------------------
NOTES TO FINANCIAL STATEMENTS
(1.) Significant Accounting Policies
Keystone High Income Bond Fund (B-4) (the "Fund") is a common law trust for
which Keystone Management, Inc. ("KMI") is the Investment Manager and Keystone
Investment Management Company ("Keystone") is the Investment Adviser. Keystone
is a wholly-owned subsidiary of Keystone Investments, Inc. ("KII") and KMI is in
turn a wholly-owned subsidiary of Keystone. The Fund is registered under the
Investment Company Act of 1940, as amended (the "1940 Act"), as a diversified,
open-end investment company. The Fund's investment objective is to achieve the
highest possible income by investing in high yielding securities.
The following is a summary of significant accounting policies consistently
followed by the Fund in the preparation of its financial statements. The
policies are in conformity with generally accepted accounting principles, which
require management to make estimates and assumptions that affect amounts
reported herein. Although actual results could differ from these estimates, any
such differences are expected to be immaterial to the net assets of the Fund.
A. Valuation of Securities
Investments are usually valued at the closing sales price, or, in the absence of
sales and for over-the-counter securities, the mean of the bid and asked prices.
U.S. Government obligations held by the Fund are valued at the mean between the
over-the-counter bid and asked prices, as furnished by an independent pricing
service. Listed corporate bonds, other fixed income securities, mortgage and
other asset-backed securities, and other related securities are valued at prices
provided by an independent pricing service. In determining value for normal
institutional-size transactions, the pricing service uses methods based on
market transactions for comparable securities and various relationships between
securities that are generally recognized by institutional traders. Security
valuations not available from an independent pricing service (including
restricted securities) are valued at fair value as determined in good faith
according to procedures established by the Board of Trustees.
Short-term investments with remaining maturities of 60 days or less are carried
at amortized cost, which approximates market value. Short term securities with
greater than 60 days to maturity are valued at market value.
B. Repurchase Agreements
Pursuant to an exemptive order issued by the Securities and Exchange Commission,
the Fund, along with certain other Keystone funds, may transfer uninvested cash
balances into a joint trading account. These balances are invested in one or
more repurchase agreements that are fully collateralized by U.S. Treasury and/or
Federal Agency obligations.
Securities pledged as collateral for repurchase agreements are held by the
custodian on the Fund's behalf. The Fund monitors the adequacy of the collateral
daily and will require the seller to provide additional collateral in the event
the market value of the securities pledged falls below the carrying value of the
repurchase agreement.
C. Foreign Currency
The books and records of the Fund are maintained in United States (U.S.)
dollars. Foreign currency amounts are translated into United States dollars as
follows: market value of investments, assets and liabilities at the daily rate
of exchange; purchases and sales of investments, income and expenses at the rate
of exchange prevailing on the respective dates of such transactions. Net
unrealized foreign exchange gain (loss) resulting from changes in foreign
currency
<PAGE>
PAGE 20
- ------------------------------------
Keystone High Income Bond Fund (B-4)
exchange rates is a component of net unrealized appreciation (depreciation) on
investments and foreign currency transactions. Net realized foreign currency
gains and losses resulting from changes in exchange rates include foreign
currency gains and losses between trade date and settlement date on investment
securities transactions, foreign currency transactions and the difference
between the amounts of interest and dividends recorded on the books of the Fund
and the amount actually received. The portion of foreign currency gains and
losses related to fluctuations in exchange rates between the initial purchase
trade date and subsequent sale trade date is included in realized gain (loss) on
foreign currency transactions
D. Forward Foreign Currency Exchange Contracts
The Fund may enter into forward foreign currency exchange contracts ("forward
contracts") to settle portfolio purchases and sales of securities denominated in
a foreign currency and to hedge certain foreign currency assets. Forward
contracts are recorded at the forward rate and are marked-to-market daily.
Realized gains and losses arising from such transactions are included in net
realized gain (loss) on foreign currency related transactions. The Fund bears
the risk of an unfavorable change in the foreign currency exchange rate
underlying the forward contract and is subject to the credit risk that the other
party will not fulfill the obligations of the contract. Forward contracts
involve elements of market risk in excess of the amount reflected in the
statement of assets and liabilities.
E. Security Transactions and Investment Income
Securities transactions are accounted for no later than one business day after
the trade date. Realized gains and losses are computed on the identified cost
basis. Interest income is recorded on the accrual basis and includes
amortization of discounts and premiums. Dividend income is recorded on the
ex-dividend date.
F. Federal Income Taxes
The Fund has qualified and intends to qualify in the future as a regulated
investment company under the Internal Revenue Code of 1986, as amended (the
"Code"). Thus, the Fund is relieved of any federal income tax liability by
distributing all of its net taxable investment income and net taxable capital
gains, if any, to its shareholders. The Fund intends to avoid excise tax
liability by making the required distributions under the Code. Accordingly, no
provision for federal income tax is required.
G. Distributions
The Fund distributes net investment income monthly and net capital gains, if
any, annually. Distributions to shareholders are recorded at the close of
business on the ex-dividend date.
Income and capital gains distributions to shareholders are determined in
accordance with income tax regulations, which may differ from generally accepted
accounting principles. These differences are primarily due to the expiration of
capital loss carryovers.
(2.) Capital Share Transactions
The Fund's Declaration of Trust authorizes the issuance of an unlimited
number of shares of beneficial interest with a par value of $1.00.
Transactions in shares of the Fund were as follows:
<TABLE>
<CAPTION>
Year Ended July 31,
1996 1995
- ------------------------------------------------------------------------
<S> <C> <C>
Shares sold 38,767,387 53,793,683
Shares redeemed (74,982,398) (55,102,608)
Shares issued in reinvestment of
dividends and distributions 7,959,753 10,479,964
- ------------------------------------------------------------------------
Net increase (decrease) (28,255,258) 9,171,039
- ------------------------------------------------------------------------
</TABLE>
<PAGE>
PAGE 21
- -----------------------------
(3.) Securities Transactions
Cost of purchases and proceeds from sales of investment securities (excluding
short-term securities) for the year ended July 31, 1996 were $741,296,676 and
$879,000,971, respectively.
As of July 31, 1996, the Fund has a capital loss carryover for federal income
tax purposes of approximately $501,090,000 which expires as follows:
$43,981,000--1997, $93,048,000--1998, $91,149,000--1999, $122,350,000--2000,
$44,605,000--2002 and $105,957,000--2003.
(4.) Distribution Plan
The Fund bears some of the costs of selling its shares under a Distribution Plan
(the "Plan") adopted pursuant to Rule 12b-1 under the 1940 Act. Under the Plan,
the Fund pays its principal underwriter, Keystone Investment Distributors
Company ("KIDC"), a wholly-owned subsidiary of Keystone, amounts which are
calculated and paid daily.
Under the Plan, the Fund pays a distribution fee which may not exceed 1.00% of
the Fund's average daily net assets, of which 0.75% is used to pay distribution
expenses and 0.25% may be used to pay service fees.
During the year ended July 31, 1996, the Fund paid expenses under the Plan of
$6,747,276.
Contingent deferred sales charges paid by redeeming shareholders may be paid
to KIDC.
The Plan may be terminated at any time by vote of the Independent Trustees or
by vote of a majority of the outstanding voting shares of the Fund. However,
after the termination of the Plan, at the discretion of the Board of Trustees,
payments to KIDC may continue as compensation for its services which had been
earned while the Plan was in effect.
KIDC intends, but is not obligated, to continue to pay distribution costs that
exceed the current annual payments from the Fund. KIDC intends to seek full
payment of such distribution costs from the Fund at such time in the future as,
and to the extent that, payment thereof by the Fund would be within permitted
limits.
Total unpaid distribution costs at July 31, 1996 amounted to $5,597,863.
(5.) Investment Management Agreement and Other Affiliated Transactions
Under the terms of the Investment Management Agreement between KMI and the Fund,
KMI provides investment management and administrative services to the Fund. In
return, KMI is paid a management fee, computed and paid daily, at an annual rate
of 2.00% of the Fund's gross investment income plus an amount determined by
applying percentage rates starting at 0.50% and declining as net assets increase
to 0.25% per annum, to the net asset value of the Fund.
KMI has entered into an Investment Advisory Agreement with Keystone under
which Keystone provides investment advisory and management services to the Fund.
In return for its services, Keystone receives an annual fee representing 85% of
the management fee received by KMI.
During the year ended July 31, 1996, the Fund paid or accrued $18,334 to
Keystone for certain accounting services. The Fund paid or accrued $1,927,228 to
Keystone Investor Resource Center, Inc., a wholly-owned subsidiary of Keystone,
for services rendered as the Fund's transfer and dividend disbursing agent.
Certain officers and/or Directors of Keystone are also officers and/or
Trustees of the Fund. Officers of Keystone and affiliated Trustees receive no
compensation directly from the Fund.
(6.) Expense Offset Arrangement
The Fund has entered into an expense offset arrangement with its custodian.
For the year ended July 31, 1996, the
<PAGE>
PAGE 22
- ------------------------------------
Keystone High Income Bond Fund (B-4)
Fund incurred total custody fees of $349,176 and received a credit of $103,025
pursuant to this expense offset arrangement, resulting in a net custody expense
of $246,151. The assets deposited with the custodian under this expense offset
arrangement could have been invested in income-producing assets.
(7.) Subsequent Distribution to Shareholders
A distribution from net investment income of $0.028 per share was declared
payable on September 6, 1996 to shareholders of record on August 23, 1996. This
distribution is not reflected in the accompanying financial statements.
(8.) Subsequent Event
On September 6, 1996, Keystone Investments Inc. entered into an Agreement and
Plan of Acquisition and Merger (the "Acquisition") with First Union Corporation
and First Union National Bank of North Carolina ("First Union") whereby First
Union would acquire all the assets and liabilities of Keystone Investments, Inc.
Subject to the receipt of the required regulatory and shareholder approvals, the
Acquisition is expected to take place in late December 1996.
- -------------------------------------------------------------------------------
FEDERAL TAX STATUS--FISCAL 1996 DISTRIBUTIONS
(Unaudited)
During the year ended July 31, 1996, distributions of $0.37 were paid in
shares or cash.
In January 1997 complete information on calendar year 1996 distributions will
be forwarded to you to assist in completing your 1996 federal income tax return.
<PAGE>
PAGE 23
- -----------------------------------
INDEPENDENT AUDITORS' REPORT
The Trustees and Shareholders
Keystone High Income Bond Fund (B-4)
We have audited the accompanying statement of assets and liabilities of Keystone
High Income Bond Fund (B-4), including the schedule of investments, as of July
31, 1996, and the related statement of operations for the year then ended, the
statements of changes in net assets for each of the years in the two-year period
then ended, and the financial highlights for each of the years in the ten-year
period then ended. These financial statements and financial highlights are the
responsibility of the Fund's management. Our responsibility is to express an
opinion on these financial statements and financial highlights based on our
audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements and financial
highlights are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements. Our procedures included confirmation of securities owned as of July
31, 1996 by correspondence with the custodian and brokers. An audit also
includes assessing the accounting principles used and significant estimates made
by management, as well as evaluating the overall financial statement
presentation. We believe that our audits provide a reasonable basis for our
opinion.
In our opinion, the financial statements and financial highlights referred to
above present fairly, in all material respects, the financial position of
Keystone High Income Bond Fund (B-4) as of July 31, 1996, the results of its
operations for the year then ended, the changes in its net assets for each of
the years in the two-year period then ended, and the financial highlights for
each of the years in the ten-year period then ended in conformity with generally
accepted accounting principles.
KPMG Peat Marwick LLP
Boston, Massachusetts
September 6, 1996
<PAGE>
[BACK COVER]
-------------------------------
KEYSTONE
FAMILY OF FUNDS
[DIAMOND]
Balanced Fund (K-1)
Diversified Bond Fund (B-2)
Growth and Income Fund (S-1)
High Income Bond Fund (B-4)
International Fund Inc.
Liquid Trust
Mid-Cap Growth Fund (S-3)
Precious Metals Holdings, Inc.
Quality Bond Fund (B-1)
Small Company Growth Fund (S-4)
Strategic Growth Fund (K-2)
Tax Free Fund
-------------------------------
This report was prepared primarily for the information of the Fund's
shareholders. It is authorized for distribution if preceded or accompanied by
the Fund's current prospectus. The prospectus contains important information
about the Fund including fees and expenses. Read it carefully before you invest
or send money. For a free prospectus on other Keystone funds, contact your
financial adviser or call Keystone.
[KEYSTONE LOGO] KEYSTONE
INVESTMENTS
P.O. Box 2121
Boston, Massachusetts 02106-2121
B4-R-9/96
47M [RECYCLE LOGO]
-------------------------------
K E Y S T O N E
[GRAPHIC OF MOUNTAINS]
HIGH INCOME
BOND FUND (B-4)
-------------------------------
[KEYSTONE LOGO]
ANNUAL REPORT
JULY 31, 1996
